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Over at Real Clear Markets, I debunked the National Institute for Retirement Security’s claim that generous pension benefits for public employees stimulate the economy to the tune of hundreds of billions of dollars. NIRS represents plan managers, pension actuaries, investment advisers, and public employee unions—all the folks who have an interest in keeping the current system going, even if it has generated trillions of dollars in unfunded liabilities for state and local governments.

My argument was simple: Even if pension benefits have a “multiplier effect,” those don’t come out of thin air. So we also need to count the depressive economic effects of taking money away from taxpayers to give to public employees. When you count both sides of the equation, pensions’ effect on the economy is at best a wash and very possibly negative.

As if on cue, NIRS executive director Diane Oakley writes that their arguments “make perfect sense”—but again, only if you assume that pension benefits come out of thin air.

Oakley makes another common economic error when she says, “Because these pensions are pre-funded rather than pay-as-you-go, the contributions generate investment earnings. As a result, government employers contribute only about 25 percent of the cost of the pension checks their retirees receive each month. This makes the economic impact of public pensions all the more powerful.”

In fact, interest earned on taxpayer contributions is compensation for the time value of money, for funding pensions years or decades earlier than the benefits are actually paid. Both principle and interest are costs, since they otherwise could be enjoyed by taxpayers.

Oakley also claims that the steady income provided by public pensions stimulates the economy during a recession. But she ignores falling pension assets, which have pushed up required taxpayer contributions by 30 percent since 2007, costing Americans $20 billion that they otherwise would be able to spend during a recession.

Public employees receive far more generous pension benefits than the taxpayers who fund them. It’s understandable that interest groups would focus only on these benefits. But the costs to taxpayers are just as large.

This past weekend, I read a story in the Washington Post’s police blotter regarding a stabbing that occurred at an Elk’s Club in Annapolis, Maryland. The stabbing wasn’t all that odd—in the DC area you get far worse on a daily basis—it was the Elk’s Club twist that was unusual.

But as I read further, something stranger popped up. The Post’s story included a range of information on the stabbing suspects, along with the police department’s telephone number to contact with any information. But the Post left out one piece of information on the suspects you’d think might be helpful. Can you guess what it is?

Police are looking for two suspects. One is described as a 5’9-5’10 man in his 30s with a medium build, wearing brown leather jacket and white pants. The other is a slim man around the same height, possibly with a gold tooth. Police urge anyone with information about the stabbings to call the Southern District Detective Unit at 410-222-1965.

A little Googling found this news story from WJLA television that provides the full police description:

-a black male in his 30s, standing 5-foot-9 with a medium build, wearing a brown leather jacket and white pants

-a black male with a slim build, possibly with a gold tooth

Is race irrelevant for, say, IDing the suspects? Or is the gold tooth more than enough info to go on?

It’s obvious why race is left out, but the Post poorly serves its readers—and for that matter, the community—by excluding clearly relevant information for the sake of political correctness.

The Social Security Trustees released their annual report today on the program’s financial health, predicting a significantly larger funding shortfall than was projected only a few years ago.

Most news reports focus on the year when Social Security’s trust fund will be exhausted—today’s Trustees report projects insolvency in 2033, four years earlier than last year’s report.

But the key measure is the system’s “actuarial deficit,” which measures funding shortfalls over a full 75-year period. This year, the Trustees project a 75-year shortfall equal to 2.67% of the total wage base. That’s around $9.1 trillion in present value dollar terms, meaning that if we set aside $9.1 trillion today, earning interest, we’d have enough to cover full benefits for the next 75 years. Going back only to 2010, the Trustees projected a much smaller actuarial deficit of only 1.92% of payroll, equal to $5.9 trillion. So things have gotten a lot worse in a short space of time.

There are a lot of reasons for this, but the main drivers include rising disability costs, longer life spans, and the effects of recession on tax receipts.

The short story is, first, that taxes are going to have rise or benefits be cut, and by more than we previously thought; and second, the longer we wait to fix the system the bigger those cuts will have to be. Both President Obama and Governor Romney should start talking about how they would fix Social Security.

In response to Jason Richwine and my paper on public school teacher compensation, in which we tried to place a value on the greater job security enjoyed by teachers, we sometimes heard that this job security is a myth. Teachers can be dismissed, protested the unions.

Sure, but today’s New York Times details exactly how far some teachers can go without getting the can. For instance,

A high school science teacher in the Bronx who had already been warned about touching female students brushed his lower body against one student’s leg during a lab exercise, coming so close that she told investigators she could feel his genitals through his pants.

That guy’s still in the classroom, as are a math teacher who harassed a female student via phone and text messages and a health teacher who simulated anal sex on one of his male students. In these and other cases, the Times reports, New York school officials’ efforts to fire such teachers were stymied by contractually-required arbitration that, while finding the teachers at fault, didn’t go so far as to fire them.

But the worst comes through a quote from a teachers union lawyer. Said James R. Sandner, who retired recently after a long career as a lawyer for New York State United Teachers, “If the person is punished in some fashion and now realizes that this is something they should not do, and they feel remorse, you ought to be able to get to a point of simply moving on.”

So if you just didn’t realize that the bumping and grinding with a teenage student wasn’t exactly ok, but now that you do know you feel bad about it you feel bad, then you’re good to go? The answer in New York City, at least, appears to be yes.

Former OMB Director Peter Orszag writes that fixing Social Security without raising taxes implies unacceptably large benefit cuts for middle class retirees. Orszag points to his own plan with MIT Professor Peter Diamond, which would have much smaller benefit reductions by virtue of raising the payroll tax rate, increasing the current $107,000 limit on which payroll taxes apply, and instituting a 3 percent surtax on all earnings above the cap.

The problem is that the administration proposes or already has passed similar tax increases, except that the proceeds don’t go toward fixing Social Security. President Obama favors raising income tax rates on high earners and, in a more egregious act of poaching, the Affordable Care Act increases the Medicare tax rate on Americans earning over $250,000 by 0.9 percentage points and includes a 3.8 percent tax on investment income for people earning over $250,000. Say goodbye to your Social Security surtax.

The lesson is: you snooze, you lose. When President Obama pushes for tax increases for things he wants to do—like increasing discretionary spending and expanding health insurance coverage—he’s left with less ability to raise taxes for the things he needs to do, like fixing Social Security and Medicare. Social Security reform is more likely to involve larger benefit cuts because the administration put its wants before its needs.

In the wake of CBO’s recent report finding that federal employees are overcompensated by an average of 16 percent, public employee unions and members of Congress who support them had two main reactions.

First, they say, the Bureau of Labor Statistics—not the CBO—are the real experts on pay. Second, they argue, pay studies should compare jobs, not the education or experience of the people who fill those jobs. Well, they’ve got what they want.

The Journal of Economic Perspectives yesterday published a new study by Brooks Pierce and Maury Gittleman of the Bureau of Labor Statistics which uses BLS estimates of the skills required in different occupations to compare public and private sector pay.

Brooks and Gittleman restrict their analysis to state and local government employees, but their findings are striking: state government workers receive salaries about even with private sector levels, while local government workers receive salaries around 9 percent above private sector levels. Once you include benefits, state employees are overpaid by around 9 percent and local government workers by around 18 percent. Moreover, there’s good reason to believe these estimates are conservative, since they exclude the value of retiree health coverage for public employees and understate the true value of defined benefit pensions.

You can’t say for sure what this implies for federal government employee pay, but they’re generally regarded as better paid than state and local government workers.

Writing for the Washington Post, Colleen Kelley of the National Treasury Employees Union pushes back against the recent CBO report finding that federal employees are, on average, overpaid by around 16 percent.

Kelley notes that the CBO “compared characteristics of the federal and private-sector workforces, rather than comparing jobs done in each sector. The latter is the approach of the Bureau of Labor Statistics, which has consistently found a pay gap in favor of the private sector. The latest BLS report shows that gap to be an average of 26 percent.”

One problem with the BLS report, that CBO noted over 25 years ago and that more recent academic literature has confirmed, is that the federal government may not fill the same jobs with the same employees. A study of BLS occupational data by Melissa Famulari of the University of California, San Diego, found that, “Federal workers have significantly fewer years of education and experience than private sector workers in the same level of responsibility in an occupation.”[1] Famulari finds that these differences play out through federal hiring and promotion practices:

The Federal government, particularly in Washington, DC, hires workers at initially higher levels of work. These differentials are so large that, even after a number of years on the job, private sector workers are employed at substantially lower levels of responsibility than the starting levels of responsibility for DC Federal government workers. In addition, the Federal government, particularly in DC, promotes workers more quickly than in the private sector, conditional on observed worker characteristics.

Famulari concludes: “The large private sector premium paid to workers in an occupation and level is largely explained by the more valuable skills of private sector workers within an occupation and level.”

Most economists agree that the main determinants of pay are the skills and abilities that workers bring to the job. If these differ between the federal government and the private sector, as Jason Richwine and I explained in our AEI paper on federal pay, then it is possible for federal jobs to be underpaid while federal workers are overpaid. But it’s pay to workers that we care about.

                                                                                                                                                                

[1] Famulari, M. “What’s in a Name? Title Inflation in the US Federal Government.” Working paper. 2002. Revision requested by Industrial and Labor Relations Review.

Andrew Biggs

A comment that speaks for itself

By Andrew Biggs

February 3, 2012, 1:26 pm

“Nothing is more important to Congress than reducing income inequality,” said Majority Leader Harry Reid, D-Nevada.

Really? Nothing?? What’s truly worrying is that Reid may well be correct, at least for his half of the Hill.

The Congressional Budget Office’s recent study on federal employee pay found that federal retirement benefits were about 3.5 times more generous than those paid to similar workers in the private sector, helping drive an overall compensation premium of around 16 percent over private sector levels. But the CBO study missed an important benefit offered to federal employees that Jason Richwine and I caught in our own analysis of federal pay.

In addition to a traditional defined benefit pension plan, federal employees participate in the defined contribution Thrift Savings Plan. There is a little-known but generous subsidy to the largest investment fund in the TSP, the so-called G fund, which invests in special-issue U.S. Treasury securities. What most people don’t know is that the G fund pays significantly higher interest rates than similar Treasuries available to private sector workers with 401(k) pension plans.

The TSP states: “Although the securities in the G Fund earn a long-term interest rate, the Board’s investment in the G Fund is redeemable on any business day with no risk to principal. The value of G fund securities does not fluctuate; only the interest rate changes.” This is unlike marketable Treasuries, which like any bond will rise or fall in value as interest rates change.

The TSP advertizes this as “The G Fund Advantage.”

“The G fund rate calculation described above results in a long-term rate being earned on short-term securities. Because long-term interest rates are generally higher than short-term rates, G fund securities usually earn a higher rate of return than do short-term marketable treasury securities…. From January 1988 through December 2010, the G fund rate was, on average, 1.77 percentage points higher per year than the three month T-bill rate.”

In effect, the G fund receives an interest rate subsidy of around 1.77 percentage points versus marketable investments of similar risk. In other words, if federal employees were offered marketable Treasuries the same as everyone else, they would receive less interest and the federal government would reap the savings. As of December 31, 2010, the G fund held $128.6 billion, making for an annual interest rate subsidy of around $2.3 billion. That’s equivalent to raising average federal salaries by around 2 percent.

Andrew Biggs

You give us too much credit…

By Andrew Biggs

February 1, 2012, 2:35 pm

The Congressional Budget Office’s finding this week that federal employees receive average compensation 16 percent above that of similar private sector workers builds on work that Jason Richwine and I did in an AEI paper last year. One of our key results was that federal retirement benefits are much more generous than private sector benefits—3.5 times more generous in CBO’s study, and even more so in ours.

One element in this conclusion is in how you “discount” future retirement benefits to calculate their value to workers today. We and CBO both assumed that if a future benefit was guaranteed, you should discount it using the market interest rate on guaranteed assets. You’d use that lower interest rate even if the government funds its benefits using risky assets with higher expected returns, because what you’re valuing is the benefit, not the government’s strategy for financing it.

Our friends at the Economic Policy Institute, however, think that somehow Jason and I duped CBO into using this method:

The experts consulted by CBO for this report include my EPI colleague, Heidi Shierholz, as well as two researchers on the other end of the political spectrum, Andrew Biggs of the American Enterprise Institute and Jason Richwine of the Heritage Foundation. Though it’s nice that CBO considered a range of opinions, it’s a shame that Biggs, Richwine and others have been successful in convincing CBO and others to use low Treasury yields to estimate the cost of future pension benefits.

I’d like to think that our prior work made clear how important it is to correctly value future retirement benefits. But it’s evidence of how out of step EPI is with the rest of the economics profession that we really didn’t have to convince CBO of anything.

If anything, I think CBO may not have gone far enough. The 20-year Treasury yield today is around 2.6 percent. CBO assumed a 4 percent Treasury rate, then added 100 basis points to account for the fact that federal pensions aren’t as guaranteed as Treasuries. I think a 100-basis point risk adjustment is too much for already-accrued federal pensions, which seem almost certain to be paid even if the terms by which future benefits are earned change. The value of benefits is very sensitive to the discount rate, so using plausible assumptions, the federal compensation premium today could be even larger than what CBO found.

The Congressional Budget Office has released a new study showing that federal government employees receive significantly higher compensation than private sector workers with the same levels of education and experience. The CBO report confirms many of the findings of a 2011 study I wrote with Jason Richwine of the Heritage Foundation and helps rebut claims that federal workers are underpaid.

CBO found that federal employees receive average salaries that are about 2 percent higher than those for similar private sector employees and benefits that by 48 percent exceed private sector levels. Total average federal compensation is 16 percent above private sector levels. With federal employee compensation totaling $200 billion per year, a 16 percent pay premium is big money.

CBO’s methods are broadly consistent with the 2011 AEI study, although we found a larger federal pay premium because we sought to capture a broader range of federal compensation—including the implicit value of federal workers’ near-total job security—and because of somewhat different economic assumptions. Nevertheless, the CBO report serves as a valuable contrast to figures generated by the federal Office of Personnel Management claiming that federal employees are underpaid by 26 percent relative to private sector jobs.

The average federal government employee receives a salary of around $75,000 per year. With present and future fringe benefits equal to about 76 percent of salaries, that makes for total annual compensation of around $133,000. How does this match up to the private sector?

CNN Money has a nice survey of the 25 highest-paying companies in the country, outlining the average total compensation per employee in each one. According to CNN, the closest match to federal employment is Microsoft, whose average employee compensation is $132,023 per year, making it the 17th highest-paying company in the country.

When high federal pay is pointed out, public employee unions counter that federal employees are more productive than the average private sector worker, due to their greater education and experience. But do you think that the average federal employee is more productive than the average Microsoft employee? Or Intel, or Qualcomm, both of which pay around the same?

I testified yesterday at a House Oversight Committee hearing on federal employee retirement benefits. Republicans in Congress have proposed increasing employee pension contributions and reducing future benefits.

My approach was to compare the benefits that a typical federal worker would receive at retirement versus what a private sector worker with the same salary might expect to receive. Federal employees are eligible for Social Security benefits, the defined contribution Thrift Savings Plan (TSP), and the defined benefit Federal Employee Retirement System (FERS). Typical private sector workers rely mostly on Social Security and a defined contribution 401(k) plan.

Let’s take a federal worker retiring at age 62 after 28 years of service with a final salary of $78,650. The table below shows what he could expect to receive as a federal worker versus what he might get under a typical private sector plan.

Annual pension benefits at age 62
Federal Private
Defined benefit  $23,710  $         -
Defined contribution  $8,610  $7,044
Social Security  $18,264  $18,264
Total  $50,583  $25,308

The short story: federal employees can expect roughly double the retirement benefits as similar private sector workers. They have a defined contribution plan that is more generous than most 401(k), plus a defined benefit pension for which they contribute only 0.8 percent of pay. Overall, it’s a pretty sweet deal.

Back in January 2010, I wrote that the best evidence suggested that the so-called “game changers” included as part of the health reform legislation were unlikely to do much to restrain healthcare costs. The main reason that policies such as disease management and preventive care wouldn’t save much money is that it costs money to apply these methods to every patient, but only a relative few will benefit from them. Furthermore, it is hard to predict who those patients will be.

Now, following a review of experimental demonstration projects on disease management, care coordination, and value-based payment in Medicare, the Congressional Budget Office reports: “CBO reviewed the outcomes of 10 major demonstrations that have been evaluated by independent researchers. The evaluations show that most programs have not reduced Medicare spending.” Some demonstration projects fared better than others. For instance, programs promoting stronger patient–doctor interaction were more likely to generate savings, but even most projects of this type didn’t break even.

If we knew then what we know now—that the long-term care programs added to healthcare reform to sweeten the budget numbers were unsustainable, and that so-called game changers such as disease management didn’t change the game much at all—it is almost certain that the Affordable Care Act would not have passed through Congress.

What makes this all so galling is that we did know then what we know now: there were plenty of people raising warnings regarding these issues, but Congress and the Obama administration chose to ignore them.

Andrew Biggs

Who’s enriching the 1 percent?

By Andrew Biggs

January 13, 2012, 10:45 am

Over at the Huffington Post, the AFL-CIO’s Secretary-Treasurer Lee Saunders takes a shot at me in an article subtly titled “Killing Pensions to Benefit the 1 Percent.”

Andrew Biggs and Jason Richwine—representing two right-wing, corporate-funded propaganda outfits, the American Enterprise Institute and the Heritage Foundation—were given prime space on the Journal’s op-ed page last week to make an argument for radically transforming the retirement savings of working Americans. They laid out a reckless plan to end guaranteed retirement accounts, and in some cases require workers to forfeit their life savings, and force public workers to enrich Wall Street firms that have already demonstrated their inability to produce adequate resources to meet the needs of retirees.

Leaving aside the total bull about requiring workers to forfeit their life savings, who does the AFL-CIO think manages public pension investments, the tooth fairy? The “1 percent” is all over public pensions, which are the largest single investor in hedge funds and are shifting heavily into private equity. That’s a lot of corporate jets and Cristal for the top 1 percent, courtesy of public sector pensions and the unions that back them.

The typical 401(k), by contrast, has nothing to do with hedge funds and private equity, and certainly doesn’t pay anything like that 2 percent of assets and 20 percent of profits that public pensions pay to hedge fund managers. A well-run defined-contribution pension like the Thrift Savings Plan for federal government workers—which is the more likely model if state/local workers shifted to DC plans—pays almost nothing to Wall Street managers of any kind.

In truth, the “1-percenters” make far, far more money off public sector pensions than they ever would from 401(k) plans.

Over at Education Week, Jason Richwine and I have an article responding to criticisms of our work on teacher pay. We found that, contrary to conventional wisdom, public school teachers receive higher pay than similar private sector workers. Their salaries are about on par but their benefits are a lot more generous. We think the Ed Week article resolves many of the obvious objections to our paper.

Not surprisingly, though, the comments sections is crammed with entries (some reasonable, others kind of nutty). One comment was from Randi Weingarten, president of the American Federation of Teachers, one of the largest and most influential teachers’ unions. Here are her comments, followed by my responses.

Weingarten: “If we had a society where thousands of people wanted to become teachers and stay teachers, saying teachers are overpaid would have a scintilla of credibility. However, in the teaching profession, attrition nationwide is through the roof. In New York City, for example, 66,000 teachers have left their jobs since Mayor Michael Bloomberg took office. With these losses, our children lose experienced, high-quality teachers.”

Biggs: As we point out in the article, teacher colleges regularly graduate thousands more prospective teachers than can find jobs. Most teaching openings, even prior to the recession, received multiple applicants; in Connecticut in 2007-8, for instance, schools received an average of 15 qualified applicants per opening. Finally, teacher turnover is not appreciably higher than other professions. None of these facts point toward a profession that is deemed undesirable or underpaid.

Weingarten: “The authors believe teacher salaries should be market-based, while we believe teacher salaries should be based on the value our society places on children and their education, and our need to recruit and retain excellent teachers.”

Biggs: It is silly to argue that teacher pay should be set without reference to the market. There are many, many important jobs in society; doctors who cure your illnesses, lawyers who defend you in court, and so on. Pay for practically all of them relies on market pricing. As Ms. Weingarten seems to acknowledge, if we wish to attract and retain teachers, we have to know what the market would pay them in alternate employment. Our paper shows that we’re already paying above-market compensation, meaning that it’s factors other than pay that are preventing school from getting the best teachers.

Weingarten: “Indeed, the 2010 report on closing the talent gap by McKinsey & Co. found that improving compensation and working conditions could dramatically increase the recruitment and retention of top college students in high-needs schools and school districts.”

Biggs: The McKinsey report actually supports our basic finding: it shows that public school teachers are generally recruited from the bottom third of their college graduating class, meaning they’re less qualified than the typical college graduate. So it shouldn’t be surprising if they receive salaries that are somewhat lower than the typical college graduate. That said, it’s not illogical to assume, as McKinsey does, that higher pay would automatically attract better qualified teachers. In most other professions, it would. But our own work shows that we’re already paying for better teachers than we’re getting. The question is, why? Vanderbilt University economist Dale Ballou has shown that public schools often don’t hire the best applicants even when offered. Prospective teachers who graduated from better colleges, had higher GPAs and majored in subjects like math and science rather than education, actually have lower chances of being hired than applicants who took the traditional teacher training route. Ballou and University of Missouri economist Mike Podgursky show that, when schools are indifferent to applicants’ qualifications, raising pay without reforms will do little for teacher quality. A 20 percent salary increase would raise the average SAT score of teachers by only around 2 points. There’s something really screwy with how public schools are managing their workforces and simply raising pay isn’t going to fix it.

Weingarten: “The debate over whether teachers are overpaid is another example of blaming and demeaning teachers, which doesn’t help move us toward improving teaching and learning for all students.”

Biggs: Nowhere have we blamed or belittled teachers; such claims are made to generate emotional responses that distract from the factual arguments we have presented. We have merely shown that today’s teachers are not underpaid relative to what they would earn in the private sector. If we are correct, and to date no one has shown that we are not, this has significant implications for education policy and state/local government budgets.

Last week in the Wall Street Journal, Jason Richwine and I debunked the claim that typical public employee pensions are “modest,” as public sector unions claim. Average pension amounts cited by unions include both older retirees and short-time workers, whose pension benefits are much lower. A full-career public employee—the best comparison to a typical private sector worker—receives benefits significantly above private sector levels. An Illinois teacher who retired after 30 years, we showed, would receive pension benefits that put her income in the top 5 percent of all retirees in that state. To match that kind of benefit, a private sector worker would need to save around 45 percent of his income in a 401(k).

So several days later, the letters to the editor arrive. Most are actually pretty thoughtful. And then there’s the one from the American Federation of State, County, and Municipal Employees. How does AFSCME debunk our debunking? By citing the same average benefit figures we showed to be so misleading and then claiming that public employees “pay” for their benefits through contributions ranging from 3 to 10 percent of their earnings, which, as we showed, hardly pays for the full benefit.

So we debunk a talking point and they simply repeat it back. I’m not sure if that’s progress, but at least it shows that’s the best they’ve got.

Over at the Weekly Standard, Mark Hemingway runs through some of the more egregious examples of media “fact checking,” which has become a staple of their political coverage but, as Hemingway shows, too often doesn’t live up to billing. In his piece, Hemingway approvingly cites my work with Jason Richwine on federal employee pay as a rebuttal to PolitiFact’s “fact check” on statements made by Senator Rand Paul.

As it happens, Jason and I have had two additional run-ins with fact checkers with regard to public employee pay, and both highlight a key problem with these columns: fact checkers have taken on more than they can really chew, and as a result outsource their fact checking to people who either may not be fully knowledgeable or who have their own dogs in the fight.

For instance, this time last year FactCheck.org—the granddaddy of the fact-checking game—published an article titled “Are Federal Workers Overpaid?” which looked to referee disputes between federal employees, who claim to be underpaid, and some conservative politicians, who argue they are paid double private sector levels. (Both are wrong, though conservatives are closer to the truth.) But FactCheck’s writers were apparently wholly ignorant of three decades of peer-reviewed economic research on public-private pay comparisons, nearly all of which conclude that federal employees are overpaid. Worse, FactCheck basically outsourced their analysis to a private pay consultant who thinks that wage regressions are something so exotic that most economists don’t understand them. What we ended up with was a letter to the editor after the fact, which doesn’t amount to much.

More recently, PolitiFact (Cleveland Plain Dealer edition) declared a study of Ohio public sector pay by Jason and me to be “mostly false,” by effectively turning over their analysis to Alicia Munnell of Boston College. Munnell concluded that Ohio public employees are overpaid by roughly 10 percent, which isn’t chicken-feed but is far less than the 43 percent that Jason and I found. Here’s the problem: Munnell’s own work on public sector employees uses a number of questionable assumptions while ours is more consistent with the academic literature. Had PolitiFact, say, contacted us, we’d have told them. But instead they simply published the article, just prior to Ohio’s big vote on repealing Governor Kasich’s reforms of public sector pay, leaving us to respond in a letter to the editor. This was one of very few occasions when I’ve been really, really ticked off with how a news outlet handled something.

Fact checking is good for newspapers’ business and in many cases serves the public, but it’s very easy for them to expand the franchise well beyond their ability to accurately adjudicate the facts. In particular, outsourcing their fact checking to presumed experts who themselves may need to be fact-checked is no way to go.

Andrew Biggs

Income inequality for dummies

By Andrew Biggs

December 9, 2011, 11:58 am

And by dummies, I mean me. Analyzing income inequality has become a national pastime in recent years and threatens to remain so, since the extent of increased inequality seems so hard to put to rest. Some point out that high-income individuals are pulling in a greater share of total income than in the past. Others argue that the picture isn’t so simple, since tax reforms in the 1980s presented incentives to shift what was previously business income into personal income. And these questions only scratch the surface. What’s a simple man like me to make of it all?

Here’s how I think about it. When you get a dollar of income, you can do one of two things with it: spend it or save it. So rising income inequality should lead to rising inequality of either consumption (the spending part) or wealth (the saving part). But has it?

Wojciech Kopczuk of Columbia University and Emmanuel Saez of the University of California, Berkeley, show that the share of wealth held by the top 1 percent of households has remained roughly constant since the 1940s and is actually somewhat lower today than it was in the mid-1980s. So if the rich are gaining more income, it doesn’t seem that they’re saving it.

So they must be spending it, right? Maybe not. Dirk Krueger of Stanford and Fabrizio Perri of NYU find that “from 1972 to 1998 the standard deviation of the log of after-tax labor income has increased by 20 percent while the standard deviation of log consumption has increased less than 2 percent.” Krueger and Perri argue that part of the measured increase in income inequality is a function of higher income volatility from year to year. But if households can borrow in bad years and save in good years, consumption can be smoother than income. And ultimately it’s consumption that matters.

None of this puts the question to rest. Survey data on consumption isn’t as high quality as for income, so it’s possible we’re missing something important. But it’s also possible that the income data that shapes our perceptions of inequality are missing something as well.

Andrew Biggs

Newt’s Social Security plan

By Andrew Biggs

December 5, 2011, 6:00 am

I’m quoted in today’s Washington Post showing some skepticism about a plan for Social Security promoted by Newt Gingrich. Under the plan, originally proposed by Representative Paul Ryan and Senator John Sununu in 2005, individuals could invest about half their total payroll taxes in a personal account; at retirement, individuals were guaranteed the greater of the benefit their account could pay or their promised benefit under current law. In other words, you couldn’t do worse than current law Social Security, but you might do better.

My complaint was that these kinds of guarantees cost a lot more than you think. They’re very similar to financial products call “put options,” which guarantee you the right to sell a stock for no less than some stated “strike price,” with the chance to do better. If you calculate what private markets would charge to provide the kind of guarantee in the plan touted by Speaker Gingrich—which I did in a 2006 paper for the National Bureau of Economic Research—you find out a very simple truth: if a reform plan guarantees benefits no less than promised under current law, but with the possibility or probability of receiving more, then that plan will cost more than the current system. There’s no magic here.

Partly this isn’t Newt’s fault; the actuarial memos he relies on don’t fully account for the cost of the guarantee, although the Congressional Budget Office has shown that it will price such guarantees accurately. But when something seems too good to be true, it’s wise to take a second look.

In response to my recent paper on public school teacher pay—in which Jason Richwine and I concluded that overall teacher compensation, including salaries, benefits, and job security, was roughly 50 percent above market levels—the Washington Post cites a recent comment from former Washington, DC schools chancellor Michelle Rhee:

“The average teacher salary in the United States is estimated to be around $55,000. Surely your favorite teacher is worth more than that.”

But here’s the problem: average total compensation including benefits is around $110,000, significantly more than teachers’ skills would merit in private sector jobs. And that amount isn’t simply paid to my favorite teacher; it goes to my least favorite teacher as well, since good and bad teachers are paid essentially the same. So we could just as accurately say:

“The average not-so-great teacher in the United States receives total compensation of around $110,000 per year.”

Is that too much to pay? Yes.

Today, my co-author Jason Richwine and I will be releasing a new study on public school teacher pay and holding an event at AEI. It’s interesting stuff that’s worth hearing about in person, but here’s the short story.

Salaries: Public school teachers receive lower salaries than similarly educated private sector workers; this leads many to conclude, as Education Secretary Arne Duncan did, that teachers are “desperately underpaid.” But these credentials-based comparisons are dicey when a single occupation (teacher) generally holds a single type of degree (bachelors or masters in education). Research we cite shows that education is, to put things bluntly, among the easiest college majors—teachers enter college with below-average SAT scores but earn far higher GPAs than people majoring in history, chemistry, or other subjects. That skews the numbers. Therefore, we compare salaries while controlling for scores on the Armed Forces Qualification Test, an objective measure of cognitive ability. And when we do, the supposed teacher salary gap disappears.

Vacation time: Bureau of Labor Statistics benefits data shows that teachers have only 60 percent as much vacation time as private sector workers. Huh? It turns out that BLS bases its teacher figures on a 185-day work year, which means that BLS counts only time off during the school year while ignoring summer and holiday vacations. We adjust teachers’ time off to make it comparable to private sector workers.

Retirement benefits: A typical teacher will receive pension and retiree health benefits several times larger than what she would likely receive in a private sector job. But this difference isn’t reflected in BLS benefits data, for two reasons. First, BLS excludes retiree health coverage, and second, public sector pensions use aggressive accounting rules that understate the true cost of benefits. By accessing state data on retiree health plans and adjusting pension figures to account for different accounting rules, we arrive at a more accurate figure.

Job security: Public school teachers have an unemployment rate around half that of private school teachers or a range of 16 comparable private sector occupations such as architects, news reporters, and editors. Job security insures against income loss during unemployment and becomes more valuable when the job you have—such as public school teaching—pays a premium in terms of combined salaries and benefits. We calculate that job security is worth about an extra 9 percent of pay.

Summing up: Teacher salaries are about comparable to the private sector, but teachers’ benefits are roughly twice as generous and their job security is significantly greater. Altogether, we estimate that public school teachers receive total compensation roughly 50 percent higher than they would likely receive in private sector jobs.

Various news sources are reporting that congressional Democrats on the deficit Super Committee have floated the idea of changing the measure of inflation used for most federal policies. The shift would move from the conventional Consumer Price Index to the so-called “chain weighted” CPI, which better accounts for how buyers change their purchasing habits as relative prices between goods change. The chain weighted CPI generally shows lower inflation by around 0.3 percentage points.

The chained CPI would affect both spending and revenues. On the spending side, Social Security, federal pensions, and certain other payments are indexed to the CPI, so using a lower measure of inflation would reduce Cost of Living Adjustments (COLAs). Likewise, the CPI is also used to index income tax brackets and certain other aspects of the tax code. A lower measure of inflation would push a greater share of individuals’ incomes into higher tax brackets, thereby raising average tax rates and total revenues.

As I’ve argued here, I don’t think the chained CPI is the best measure for Social Security COLAs because it is based on the buying habits of working age Americans, not seniors. A new measure—a chain-weighted CPI specifically geared toward the elderly—would likely show somewhat lower inflation than the current CPI, but not as low as the standard chained CPI.

Likewise, it doesn’t make sense for the tax code to automatically raise revenues over time without Congress having to weigh in. Using the current CPI, income tax revenues would rise to record levels relative to GDP even if we made the Bush tax cuts permanent. Accelerating that increase in taxes—and it is a tax increase—by stealth bypasses the choices we need to make regarding the size of government going into the future.

It would be nice to think that Congress could walk and chew gum at the same time—that is, that they could both balance the books and create good public policy. But it looks like we may have to choose.

Jim Pethokoukis points out what he calls a “gimmick” in Governor Rick Perry’s proposed flat tax plan: taxpayers would get the choice to file under the current tax code or under the new flat tax plan. While I agree that this is a bit silly from a policy point of view, the problems go deeper than that. Why? Well, the flat tax is supposed to do three things: raise sufficient revenue, reduce compliance costs, and reduce economic distortions.

But if you can choose which tax code to file under then, to a first approximation, people will choose whichever costs them the least. In theory at least, to raise the same revenue in a static analysis the flat tax would have to be set such that no one could pay lower taxes than under current law, since if they could pay lower taxes they will pay lower taxes. It’s easy to respond that people would choose the flat tax for its simplicity even if it costs them more, but they can already have a simple tax code under current law: just don’t bother hunting down all your deductions.

The same goes for compliance costs: to know which tax code to file under you need to do your taxes under both, undermining the simplicity of the flat tax. One of the reasons compliance costs are so high today is that there can be such a reward for figuring out strategies to minimize your taxes; it’s not clear that Perry’s flat tax fixes this problem. And finally, if people have the option of filing under the current tax code then all the economic distortions embedded in it will remain, at least for that significant portion of the population who would do better under current law than the flat tax. A person may say to himself, “I can pay lower taxes than under the flat tax plan so long as I [insert governmentally imposed distortion here].” Marginal tax rates for high earners would be lower, reducing economic distortions, but it’s unclear where you’ll make up the revenue if low and middle earners get to file under current law where they pay next to nothing.

Back when I worked on Social Security reform, the idea of voluntary personal retirement accounts seemed liked a great one—if you want an account that’s great, but we won’t force it on you. But it ultimately made the policy a lot more complicated than it had to be. The same goes here: if you think a flat tax is superior, propose a flat tax. Will there be winners and losers? Sure, but that’s how life and policymaking go.

Andrew Biggs

Where the jobs aren’t…

By Andrew Biggs

October 21, 2011, 9:18 am

Harry Reid apparently thinks the real jobs problem is in the public sector, saying “It’s very clear that private sector jobs are doing just fine.” I’ll let the chart below, which tracks unemployment rates for public employees versus similar private sector workers—meaning, those with similar education, experience, and so forth—speak for itself.


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